Equity income funds are some of the most popular with our clients. It’s hardly a surprise considering the miserly interest rates being offered by high street banks. Most funds in this sector aim to generate a rising income, as well as increase the value of your original investment over the long term. The income can be paid out to you as cash, or reinvested in the fund to boost long-term growth.
Different fund managers take different approaches to income investing. Some focus on larger companies that are seen to be more stable and have paid regular dividends for many years. Others invest in higher-risk small and medium-sized companies. These might pay a lower income to start with, but have more growth potential.
We like the simple idea behind equity income investing.
Investing in a dividend-paying company means your wealth grows with the company’s. You're entitled to receive a share of any profits paid out as dividends. The best companies will grow their profits and dividends.
Not all companies’ profits – and therefore their dividends – are sustainable though. This is why we like equity income funds. An expert fund manager invests in a range of companies reducing the impact if one gets into trouble. It’s less risky and more convenient than trying to choose individual shares yourself.
Interest rates are close to historic lows. And they're unlikely to rise significantly in the short term. This makes the prospect of regular dividends from some of the UK's most successful companies attractive.
Dividends are clearly important for income investors. But they're just as important for those who want to grow their investment. If you don't need the income now, you can reinvest the dividends to buy more shares. This can mean you get even more dividends in future. Repeating this process over a long period is a tried-and-tested way to grow your wealth, though there are no guarantees.
We think equity income funds can provide the foundation of almost any investment portfolio. Keeping cash aside for a rainy day is important but an income fund could be considered for savings that aren't needed in the short term. Investments and their income aren't secure like cash, and will go up and down in value, so you could get back less than you invest.
Please remember past performance is not a guide to future returns. Where no data is shown, figures are not available. This information is provided to help you choose your own investments, remember they can fall as well as rise in value so you may not get back the original amount invested.
It hasn't been an easy few years for income investors. Companies typically favoured for the higher dividends they have paid, such as telecoms, utilities, and tobacco businesses, haven't done so well. The exception is mining and oil companies, which have performed exceptionally well off the back of higher commodity prices.
Generally speaking, most investors have favoured areas like technology that don't tend to pay dividends, but are expected to deliver higher rates of growth.
In the UK, it means most equity income funds haven't performed as well as the broader UK stock market. Over the past three years, for instance, the average fund in the UK Equity Income sector grew 18.0%*, while the FTSE All Share Index rose 27.0%.
The past year has also been a difficult one, with concerns over things such as Brexit, a US/China trade war, and slowing economic growth damaging investor sentiment. Over this time the average UK Equity Income fund lost 2.0% while the index grew 1.3%. As always, past performance isn't a guide to future returns.
UK Equity Income vs FTSE All-Share - three year performance
Past performance is not a guide to the future. Source: Lipper IM to 31/07/2019.
|Annual Percentage Growth|
| Jul 14 -
| Jul 15 -
| Jul 16 -
| Jul 17 -
| Jul 18 -
|IA UK Equity Income||8.7%||2.0%||13.3%||6.3%||-2.0%|
Past performance is not a guide to the future. Source: Lipper IM to 31/07/2019.
Investing in out-of-favour parts of the market can be a rewarding strategy over the longer term. It might not feel comfortable but it gives you the chance to invest in companies at more attractive prices, which have the potential to do better once sentiment improves.
At the moment the UK is one of those uncomfortable places. But we view this type of uncertainty as an opportunity. The UK stock market currently has one of the most attractive yields in the world and it's still home to great businesses that keep making profits and paying dividends, regardless of any political upheaval and the cloudy economic backdrop. The FTSE All Share Index currently offers a yield of 4.1%, though yields are variable and not an indicator of future income.
Equity income has been a good way to grow investors' wealth over the long term. Companies that pay higher dividends have tended to outperform lower-yielding companies, but there have been times when the reverse is true. We think this style remains an attractive way to invest over the long run. There are also plenty of great UK equity income fund managers with superb track records, and we don’t think investors should miss out on their future potential.
Our favourite funds in the sector
Each of the funds below can take their charges from capital. This can increase the yield but reduce the potential for capital growth. All investments can fall as well as rise in value so you could get back less than you invest.
Source for performance figures: Financial Express
Ben Whitmore is a classic value investor – he looks for companies unloved by other investors, which can be bought at a low share price, but have the potential to do much better in future.
Whitmore's got an impressive long-term track record of investing in UK companies. He's got plenty of patience, which we think is vital when it comes to value investing. It's a process he's stuck to through thick and thin and we believe the fund could be a great way to diversify an income portfolio.
It's been a difficult few years for value investors though. This style of investing has remained out of favour and it's been a headwind for managers like Ben Whitmore. It means the fund didn't perform as well as the broader UK stock market over the past year and, in particular, a lack of exposure to stronger-performing technology and mining companies didn't help.
Francis Brooke invests in companies he thinks generate resilient and predictable profits. He expects these companies to offer some shelter in difficult market conditions.
Francis Brooke likes companies that have something unique. It could be a recognised brand name, intellectual property or a dominant position in their market. He thinks these companies will be able to deliver superior long-term returns.
He invests more in consumer goods companies than many equity income funds. These companies often produce items like soap, deodorant and toothpaste that are in demand in all economic climates. We think the fund might offer more shelter than some others when markets fall, which is what happened last year. The fund's also comfortably outperformed the UK Equity Income sector and broader UK stock market over the long term, though past performance isn't a guide to future returns. It invests in a fairly small selection of shares, which increases risk.
Chris Murphy invests in the shares of companies that pay an attractive dividend as well as lower yielding ones that have the potential to provide growth.
The manager's recently reduced investments in large companies that pay a high income in favour of companies that pay less income but with more growth potential. Some of the fund's largest investments are in a range of financial companies, including asset manager Intermediate Capital Group, insurer Prudential, and wealth management business St James's Place. The fund also invests in smaller companies, which are higher-risk than larger ones. It invests in a relatively small number of companies, which means each one can have a big impact on performance, though this is a higher-risk approach.
Over the long term, Murphy has a good track record of identifying companies that generate plenty of cash to help maintain their ability to pay dividends. We view this as a more conventional equity income fund that could form the foundation of an income portfolio.
The managers of this fund think company dividends form the most stable element of stock market returns, and that re-investing them is one of the best ways to grow wealth.
Adrian Gosden invests more in higher-risk small and medium-sized companies than some other equity income managers. These investments could offer greater long-term growth potential but increase volatility. At the other end of the scale, two of the fund’s largest investments are in tobacco giants British American Tobacco and Imperial Brands. Both offer an attractive yield.
The fund's had a tough time recently and underperformed the broader UK stock market over the past year. Our analysis shows a focus on weaker-performing smaller companies has held back performance, and some other individual stock picks have also been painful. Gosden previously co-managed the successful Artemis Income Fund, but only joined GAM in 2017. We’d like to see him build a longer record at GAM before considering the fund for the Wealth 50.
Mark Barnett focuses on unloved, but financially strong companies. He invests when their share prices and valuations are low, then waits patiently for the business to improve or the sector to return to favour.
Barnett is an experienced income investor but his Invesco High Income Fund has had a tough few years. Investments in domestically focused businesses, and problems at some individual companies, have held back performance. It's been disappointing, but we think Barnett is still a decent fund manager. He's invested this fund quite differently from other UK funds. This means performance will be different, but over the long term it could help deliver good returns.
Many of the companies Barnett invests in are severely out of favour at the moment. If sentiment changes, performance could improve. There are no guarantees though and the fund could still fall in value.
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Please note the research updates are not personal recommendations to trade. If you are unsure of the suitability of an investment for your circumstances please seek advice. Remember all investments can fall as well as rise in value so investors could get back less than they invest.
Our expert research team provide regular updates on a wide range of funds.